ECB to decide on next directional move

On Wednesday, USD trading was again driven by global factors as key eco data were missing. Equities and commodities rebounded and so did core bond yields. This was a positive context for the dollar, but USD gains were modest at best. (Currency) markets are in a wait-and-see modus ahead of the ECB policy meeting. USD/JPY gained further ground later in US dealings and closed the session at 113.35 (from 112.62). Via EUR/JPY, EUR/USD moved also temporary higher in lockstep. The pair finished the session ad 1.9999 (from 1.1011).

This morning, Asian equity markets trade mixed to positive. Japanese markets outperform, profiting from a weaker yen. USD/JPY trades currently in the 113.75 area, again up one yen in a daily perspective. Chinese equities underperform.
Chinese CPI rebounded from 1.8% to 2.3%, but the rise was primarily driven by higher food prices. Commodities stay near the recent highs with Brent oil holding north of $40 p/b. The Reserve bank of New-Zealand unexpectedly cut its policy rate to a record low of 2.25%. The RBNZ kept an easing bias. The bank also wants a weaker kiwi dollar as it would be appropriate given weakness in export prices. NZD/USD dropped more than one big figure and trades in the 0.6640 area. EUR/USD returned to the 1.0975 area after yesterday’s rebound.

Today, only the ECB policy decision matters trading on all markets. For an in debt analysis of the decision see our KBC Flash report. Our basis scenario is for the ECB to cut the deposit rate by at least 10 bp. More is possible in a tiered system. We also expect an extension of the asset buying program (in amount and probably also in time). The reaction of the market to the BOJ easing late January illustrated that the markets can still go the other way, even in case of a more aggressive easing than expected. In a first reaction however, we see room for a decline of the euro. The absolute low level of (negative) interest rates should make the single currency very unattractive for non-EMU residents. At the same time, markets are not extremely positioned short euro as was the case ahead of the ECB December meeting. So, the risks for a euro short-squeeze in case of a disappointment should also be less than in December.

Of late we advocated sideways EUR/USD trading within the 1.1193/1.0810 trading range. In case the ECB delivers a substantial easing package, EUR/USD might return to the lower bound of this range. A break above 1.1193 would suggest a similar scenario as in December and open the way for a full retracement to the 1.1376 correction top. However, this is not our preferred scenario. The impact on USD/JPY from the ECB decision is less easy to foresee. We assume that a sustained break beyond the 114.87 level will be difficult without further positive news/interest rate support from the US.

EUR/GBP: Focus shifts from sterling to the euro

On Wednesday, the correction of commodities halted and Brexit went off the radar. From the start in Europe, EUR/GBP drifted lower in line with a similar move in EUR/USD. At the same time, cable rebounded too. This combination pushed EUR/GBP to the low 0.77 area. The UK production data were stronger than expected. In particular the cyclical manufacturing sector performed better than expected in January (0.7% M/M rise). However, this positive eco report didn’t help sterling much. The 0.7691 support was left intact. Later in the session EUR/GBP joined the technical rebound in EUR/USD. The pair closed the session at 0.7737 (from 0.7746 on Tuesday). Cable finished at 1.4217, almost unchanged from Tuesday.

Overnight, the RICS house price balance was reported in line with expectations at 50%. Later today, there are no important eco data on the agenda in the UK.
Sterling traders will also keep a close eye on the ECB policy decision and on the market reaction of EUR/USD. Different scenarios are possible. As we see risks for a negative reaction of EUR/USD, EUR/GBP and cable might feel some pressure too. Over the previous days, trading in cable and EUR/GBP was often driven by the GBP-side of the story (post-Brexit sterling rebound). Today, the focus is on the euro.

Last week, sterling rebounded as the Brexit-fears moved to the background, but the rebound slowed at the end of last week. We assume that the short-term bottoming out process can continue, unless there would again be negative news from Brexit. The medium term technical picture of sterling against the euro remains negative as EUR/GBP broke above the 0.7493 Oct top. Short-term, EUR/GBP tested a first support at 0.7696 on Wednesday last week. A sustained break below this level would be a first indication that sterling sentiment improves.

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